Thursday, March 5, 2009

The S&P 500 is back to levels last seen in mid-1996. This is reminiscent of a period of similar duration which ended in 1974; both times the price of the S&P 500 failed to register any net progress for over 12 years. This chart puts the two stock market plunges in a different perspective, by comparing market cap to nominal GDP (i.e., it simply divides the S&P 500 index by trillions of nominal GDP, which makes it a proxy for how the valuation of equities has behaved relative to the size of the market). Today, stocks relative to the size of the economy are almost as poorly valued as they were at the market bottom in 1974. Business ain't worth much, it seems, and just about all the gains that accrued from 1974 until 2001 have been wiped out. Any way you look at it, it's ugly. Conservatives might say we've turned our backs on the Reagan revolution, while Democrats might say we've just come back down to earth.

If there are any instructive parallels between today and the 1962-74 bear market, it would be bad government policies. Monetary policy was erratic and quite inflationary from 1965 through 1974, and monetary policy in the past 12 years has been terribly erratic, alternating between being too tight and too easy. Fiscal policy became both expansive and oppressive in the 1960s, with LBJs Big Society programs providing "stimulus," while top income tax rates of 70-80% were meant to pay the bills. Fiscal policy is now very expansive, following the "stimulus" package passed last month, and with much more to come if Obama's budget proposals are enacted. Top earners already pay a much bigger share of total income taxes than ever before, and once again, they are going to be asked to pay the bills. Notably missing from the discussions in Washington today is any mention of the need to stimulate the supply side of the economy with increased incentives to take risk. Moreover, massive quantitative monetary ease poses serious risks of inflation in the future. There is no place for capital to hide in this environment.

Bigger government, high or rising tax rates, and inflation are a prescription for economic malaise at best, and major financial losses at worst, if our history and the experience of Europe in recent decades is any guide.

Can't somebody on Team Obama figure this out??? We need less emphasis on stimulating demand, and renewed respect for those doing the heavy lifting, taking the risks, and paying the taxes.

14 comments:

I 100% agree and feel that the market is going to force the hand of Obama to back down on his grandioso plans in the near/medium term until the global economic environment begins to right itself.

The system is broken and bad policies will only make the situation worse. He has to be figuring this out by now. Timing is everything as they say, and now is NOT the time to raise taxes for bold government expansion. It just does not pass the sniff test.

However, it is time to take a break from all this "bold" action because it is becoming nauseating and impossible for people to comprehend.

I would be interested in looking at the lag effects of what might be called Expected Underlying Policy Changes. A year or so after the Great Society changes, the market collapsed. A year or so after the expected Reagan changes, the market began to improve. After the capital gains tax changes in 1986, the market went sideways. With the election of the Republican Congress in 1994, the market improved substantially. A year or so after the election of the Democratic Congress, the market went into free fall. Etc. There must be something here but I'm not sure I can put it together.

Well, I think you've laid it out pretty well. The market has demonstrated pretty clearly that it doesn't like big government, higher taxes or inflation. When those fundamentals change, it takes time for the market to fully accept it and digest the implications.

I applaud Cramer's taking on this fight, and I hope he's successful. But it's maddening that he's become such a guru to the masses with a belief system, as he admits in his otherwise great article, that he amazingly favored Obama b/c "I thought Obama to be a middle-of-the-road Democrat." Was Cramer in America during the campaign?!

He goes on to say that he "embrace(s) every part of Obama's agenda, right down to the increase on personal taxes and the mortgage deduction. I am a fierce environmentalist ... I believe in cap and trade ... I am proud to have voted for the Obama who I thought understood the need to get us on the right path, and create jobs and wealth before taxing it and making moves that hurt job creation."

Cramer is clearly a smart guy, but like so many of my friends who are still Democrats, he willingly suspended disbelief in the face of overwhelming, manifest evidence straight from Obama's mouth that he was a statist ideologue hell bent on bringing Euro-style nanny statism to these shores.

valuelurker: Thanks very much for pointing out my error. The chart was mislabeled and has been corrected. The line has not changed, but the units are not meant to be a percent of GDP. It's simply the ratio of the S&P 500 Index, which is a proxy for market cap, vs. nominal GDP as measured in $trillions.